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Forest City stock plummets after Pacific Park write-down; execs imply railyard delay, won't specify project timing (but now look to 2035)

Friday began with executives from Forest City Realty Trust defending the company against some relatively tough (by analysts' standards) questions about the Pacific Park Brooklyn delays and accounting losses, and ended--as noted in the hometown (Cleveland) Plain Dealer, with a brutal 8.6% decline in the company's shares, to $19.

Clearly the market was not happy. (Also see coverage in The Real Deal.)

Forest City executives, though acknowledging Atlantic Yards/Pacific Park resulted from some questionable decisions, said they were confident that the development would yield solid revenues, but the new timetable changed those estimates.

Still, some investment analysts on the quarterly conference call sounded skeptical, asking, without an answer, what the total project losses were.

Meanwhile, the developer disclosed what seems to be a delayed 2018 (not 2017) plan to build a new Vanderbilt Yard as part of the Atlantic Yards/Pacific Park deal, and said the company's new financial model extends to 2035.

While that does not necessarily imply the project will take until 2035 to build--as opposed to the 2025 deadline for affordable housing, which many have assumed was the project's end date--it does suggest significant uncertainty. That year may be when they expect financial stabilization.

Toughest question

At one point, an analyst even asked if a 2006 deal to restructure Brooklyn-based Forest City Ratner's relationship with the parent company, then Forest City Enterprises, could be revisited with some "clawback" from then-CEO Bruce Ratner.

Forest City Realty Trust CEO David LaRue said there was no clawback in the agreement "and again I don't comment on board discussions or the management discussions about the situation."

LaRue said they were "pleased with the overall performance of the portfolio for the first nine months," despite the "challenging pieces,"

The unspecified new schedule

"As we indicated in our press release and filings, as part of our formal update to our strategic plan, we made a decision to revise the project's schedule to delay additional future vertical development and update our assumptions about revenues, expenses and costs accordingly," La Rue said. "That process triggered the requirements for the impairment."

He did not, however, specify the new schedule or how the developer planned to meet the 2025 deadline for affordable housing. No one asked about that.

LaRue, as noted in the press release, cited "an almost unprecedented concentration of new rental supply in downtown Brooklyn, which will take time for the market to absorb" and also the "continued uncertainty" around the 421-a tax break, which "we and many others view as a critical tool for virtually any ground-up multi-family project." He also cited increasing construction costs

"As we said many times, we will activate new opportunities from our pipeline of entitlements when and where we believe we can achieve an appropriate risk-adjusted return and create value," he said, "So, despite impairment, we believe this was a prudent decision to make at this time."

LaRue did not mention that Greenland USA, the lead partner in the joint venture Greenland Forest City Partners, had to concur in the schedule change. Greenland owns 70% of the project going forward, excepting the 461 Dean tower (aka B2), and is responsible for 70% of the investment. The Barclays Center operating company was previously sold to Mikhail Prokhorov's Onexim.

Ongoing progress with affordable, condos "slower than anticipated"

He emphasized the "long-term strength in the market" and expressed optimism. "Today Pacific Park with our partner Greenland USA we have approximately 900 residential units under construction, of which 278 are condos and the remainder are affordable rentals," he said. "Our New York team can tell you that demand for the affordable units is insatiable and condo sales, while slower than anticipated, are steady."

This is the first acknowledgment that sales at 550 Vanderbilt were "slower than anticipated."

I'm not sure that demand for the middle-income affordable units is insatiable--yes, surely for low-income--but we'll see.

"We also recently opened for 461 Dean Street adjacent to the [Barclays Center], with 363 rental units at a mix of market rate, moderate-income, and affordable," LaRue said, inflating "completed, more or less" to "opened," as no one--except, perhaps, the resident manager--has moved in.

"So we feel good about the product as is already opened on the construction and about the longer-term potential for the full vision for Pacific Park Brooklyn," he said. "Separately, as we indicated previously, we continue to explore options to recapitalize Pacific Park Brooklyn via sale of real sale parcels, potential new partnerships, or other opportunities."

He offered no details.

Questions: biggest factors

One analyst asked LaRue to rank the factor, asking if another tax abatement would change their outlook.

LaRue said that "regarding 421-a, we currently have two sites where we started site work and qualified for 421-a." (Really? They've already cited the very minimal footings at the B12 site, but they don't have access to the B15 site, as far as I can tell, to install footings.)

He said all the issues fit together. "I've been at conferences, where some of the speakers on panel say there won't be another residential building built without this type of [421-a]  support in the marketplace. (See this ANHD critique of a proposed 421-a compromise.)

The "new supply coming into Brooklyn, Manhattan, Queens"--interesting, a first mention of competition with Queens, presumably Long Island City--means "slower growth during this absorption period."

"So I wouldn’t say it's 421-a is number one, but it is making sure we're starting projects and delivering them into the market at the best time," LaRue said.

"As I said in my comments, Brooklyn is a great market," LaRue said. "We're fully committed to the Brooklyn market." How can they be if they're selling more pieces of the project? "We believe Pacific Park is going to be successful in that market over time, and it's just the decision we had to make now based upon what we see and what we see impacting the project on our books and records.

The executives were asked if Forest City would "seek out additional partners" when the tax subsidy and supply outlook were more clear.

CFO Bob O'Brien said they were working with CBRE "regarding potential sale of parcels or potential other partnerships," but said they had no announcements yet.

Admitting a problem

LaRue, at one point reflected on Atlantic Yards/Pacific Park. "When you look back, it's had substantial impairments," he said, acknowledging the previous write-down in 2014 upon the sale to Greenland. "When you look back, not all of the decisions we make regarding development are gonna be right. And this particular project has, in fact, through this impairment, has an impact on us."

"An impairment doesn't mean we've lost the asset," he said. "That asset opportunity is still there. And it's based upon the strength of the market. And we will continue to show discipline in our capital allocation.. so we are creating value and not having these impairments go forward. But that is the risk of the development business."

Buildout over 20 years? Or just absorption/stabilization?

In response to a question, O'Brien said that the firm's financial model "extends to 2035, 20 years from now," incorporating  many factors, including cost of infrastructure, condo prices, and absorption of units.

That doesn't necessarily mean a completion date by 2035, but it does suggest that the project won't be done by 2025, the time by which the affordable housing is supposed to be done. The 2035 date may represent stabilization of income, but presumably that's no more than five years--maybe shorter--after which the project should be completed.

Stay tuned for more questions about that.

More trouble? Railyard extension

One analyst asked if more investment would mean "potentially good money being put after bad."

O'Brien said there were "certain guaranteed obligations, primarily the completion of the permanent [Vanderbilt] yard for the MTA." He said there was about $120 million to spend, "to complete that and that will take us through most of 2018."

The previous completion date was 2017, not 2018. If so, this is big news, because it implies more congestion of Atlantic Avenue.

O'Brien said additional money "is, I guess, likely to be spent, but it's not under any [formal] guarantee, including "foundations and the other work beneath the structures that will go above the permanent yard."

Obviously they can't activate the development opportunity without building the deck for towers over the railyard.

"And we're already talking to our partner about different actions we can take to improve the outcome, that future build, we don’t have answers today and therefore no better projections than we used to calculate the impairment," he said. "But the story is still in its early stages and we continue to believe... that this strong value creation opportunity. Pacific Park, and our commitment is to maximize an opportunity."

Atlantic Yards a bust?

One analyst said: "You've written it [the project value] down effectively to zero on equity basis, you couldn’t really do much more from an impairment perspective, given the $200 million of debt. So as you spend capital over the next 12 to 24 months I think the market wants to better understand is, if you put another $100 million in over the next year. Is that going to be $100 million asset or you have to effectively write that capital down as you spend it?"

He was essentially re-asking the "good money after bad" question.

O'Brien said no. The financial model suggests that "every dollar we put in would effectively earn that 9.8% discount" or return.

"We obviously would like them to maximize that and improve that if we can," he said. "When you take a financial projection out of 20 years there are lots of assumptions, some of which we have control over: the timing of building, what exactly we build, how fast we build it."

Again, they don't have complete control of the timing.

He noted that LaRue "alluded to whether or not we as partners sell a parcels, bring other capital, in all those things can change in that financial model. Our goal is as we said and we remain committed to maximizing return share."

Total Atlantic Yards losses and future strategy

"Have you gone back and sort of totaled the amount of capital that Forest City has put in, in terms of the pursuit cost, buying the Nets, building everything, and then net of the stuff that you’ve taken out because you've obviously sold some things," one analyst asked. "What the total effective loss as we sit here today for Forest City shareholders, for Atlantic yards, Pacific Park?"

Given that Forest City's strategy is focused on large mixed-use projects, which "come with a certain amount of risk," he asked, "How do we have the confidence that these types of things which take a lot of time, a lot of effort, a lot of capital, won't happen again?"

"Well, there is no guarantees about anything about not happening again," LaRue said, though he went on to stress that, in other project, like The Yards in Washington, DC and Stapleton in Denver, they'd managed to control land without buying it--unlike in Brooklyn with Atlantic Yards/Pacific Park.

LaRue reiterated that "taking impairment does not eliminate the asset...  I don't have the total for you based upon the sales of the team and sales of the Nets and other sales of development parcels, again, maybe not at Pacific Park but, you know, 625 Fulton asset sale was a huge value creator for shareholders and we decided to sell that rather than develop."

Indeed, the sale of that Brooklyn property raised significant sums for Forest City, but he kind of changed the subject, going on to tout successes at MetroTech in Brooklyn, MIT University Park, The Yards, and Stapleton.

"So again, we know how do these things and know how to create value, and again I'm not retreating from the fact that we have had losses at Pacific Park," LaRue said. "But in the long-term, that asset will be built, it will create value. Where we sit today, we cannot keep that value on our books."

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